This paper presents a search model with heterogeneous workers, social networks and
endogenous search intensity. There are three job search channels available to the unemployed:
costly formal applications and two costless informal channels - through family and
professional networks. The gain from being employed is increasing in the productivity, so
the lowest motivation for preparing formal applications is proved to be among the least
productive worker types. We assume that professional contacts exhibit a strong degree of
homophily, thus it is profitable for firms to direct their network search towards the more
productive incumbent employees. So the probability of a professional referral is increasing in
the productivity of the worker, which mitigates the incentives to use the formal channel of
search. Therefore, the model predicts that workers in the right (left) tail of the productivity
distribution have the highest propensity of finding a job with a help of professional (family)
contacts, whereas the formal channel of search is mostly utilized by workers in the middle
range of the distribution. This explains the U-shaped referral hiring pattern in the model.
The endogenous sorting of workers across channels also implies that professional (family)
referrals are associated with wage premiums (penalties) compared to the formal channel of
search. The average effect of referrals on wages is, however, ambiguous and depends on the
relative proportions of high and low productivity types in the population. These findings help
to explain the contradicting empirical evidence concerning the effect of referrals on wages.